Why Europe loses if South Stream goes off stream

Gazprom’s decision to abandon South Stream, a gas pipeline project that was blocked by the EU as a result of the conflict in Ukraine, will hurt Europe more than Russia.

Vladimir Putin, Russia's president, during his visit to Serbia, where he held talks on economic issues, including on the South Stream gas pipeline opposed by the European Union. Photo: AP

The statement by Russian President Vladimir Putin on the suspension of the South Stream gas pipeline was not made in haste. Rather, it reflects Moscow’s position on a range of geopolitical complexities inside the European Union that have impacted the project.

For now, the project’s geopolitical significance far outweighs its economic impact. One of Russia’s grandest schemes, South Stream was conceived by Gazprom as a global infrastructure project to carry 63 billion cubic meters (bcm) of gas along a pipeline under the Black Sea to Southern and Central Europe. The first deliveries of gas were slated to come on stream in late 2015, and design capacity was due to be reached in 2018.

Yet, throughout the construction of the pipeline, the project ran into numerous problems, related not only to the EU’s obstinacy on the matter. In early October, for example, it was reported that the cost of South Stream had risen by more than a third, with the offshore section increasing from €10 billion to €14.5 billion (from $12.4 billion to $18 billion) and the onshore section in Europe from €6 billion to €9.5 billion (from $7.5 billion to $12 billion).

And that was not South Stream’s first price hike. In early 2014, OAO Centrgaz, a 100 percent-owned subsidiary of Gazprom and the general contractor of the Serbian section of the pipeline, was awarded a contract for €2.1 billion ($2.6 billion) to build the gas pipeline, up 23.5 percent from the €1.7 billion ($2 billion) price tag announced in November 2013 by Russian Energy Minister Alexander Novak.

For the Russian energy sector, the decision is not fatal. Indeed, Europe stood to gain more from the project in the form of new jobs and reliable energy supplies, since the pipeline would have bypassed all non-EU aligned (and therefore politically unreliable) transit countries.

Note also that the EU has no adequate alternative to Russian gas, either in terms of supplies from elsewhere or its own energy sources. Therefore, Russia’s EU partners have no reason to celebrate their pyrrhic victory. Their intransigent stance has only undermined their own energy security.

Meanwhile, Russia had been contemplating since 2007 an alternative project to increase the capacity of Blue Stream to Turkey. (And, strictly speaking, based on the project dates, South Stream was the “alternative” project.) The alternative Blue Stream route was also set to bypass Ukraine and the associated risks, but involved a number of concessions to Turkey during the negotiation process.

The move is a signal to the international community that, even under sanctions, Russia will always find ways to sell its oil and gas supplies and can manage quite well even when countries take issue with Moscow. While Russia may need to make compromises to implement the proposed alternative project, they will not be unilateral – and that means Russia still has bargaining power with its energy customers for the foreseeable future.

The opinion of the author may not necessarily reflect the position of Russia Direct or its staff.

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Ivan Kapitonov is the Deputy Head of the Department of State Regulation of the Economy and a Lecturer of Public Finance at the International Institute of Public Service and Administration of the Russian Academy of the National Economy and Public Administration under the President of the Russian Federation. He also chairs the International Trade Department of the Institute of International Economic Relations and since 2007, has been a senior fellow at the Energy Policy Sector of the Institute of Economics of the Russian Academy of Sciences. Since 2002, he is the author of more than 50 Russian and foreign articles on economics, five books and 4 textbooks and manuals.